As economic risks remain, Canada has room for more interest rate cuts: IMF

IMF: Canada could make case for more interest rate cuts

OTTAWA — While Canada’s economy should pick up later this year, there are external and domestic threats that, if unchecked, could make a case for more interest rate cuts, according to the International Monetary Fund.

The IMF said in its annual report Thursday that Canada’s economy will grow by 1.8% in 2013, hobbled by a weak second-half handover from the previous year.

But gross domestic product is expected to speed up “thanks to the strengthening of the U.S. economy from mid-2013,” with the IMF pegging Canadian growth at 2.3% for 2014.

By comparison, the Bank of Canada has forecast GDP growth of 2% this year. In its quarterly Monetary Policy Report, released in January, the bank said growth should be around 2.7% in 2014.

“Our outlook for the Canadian economy is relatively a rosy one,” said Roberto Cardarelli, who heads IMF’s Canadian operations.

“The main reason for our optimism is that we expect export growth to strengthen as the recovery in the U.S. economy gradually steps up pace,” he told reporters in Ottawa, following the report’s release.

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“And we expect a more sustainable and less uncertain global recovery to unleash capital spending that Canadian firms have been postponing for a while now, despite extremely favourable financing conditions.”

The weak outlook for economic growth, along with inflation now at a tame 0.8% — well below the central bank’s 2% target — pushed back calls for the resumption of interest rate hikes until at least 2014.

The Bank of Canada’s trend-setting rate has been at a near-record low 1% since September 2010 — the longest stagnant period since the 1950s — as the central bank continued its cheap-money policy coming out of the recession, aimed at encouraging growth through consumer and business spending.

That had the intended effect of propping up a strong initial recovery in Canada. But it also came at a price, with consumer credit levels rising to historic highs as households plowed borrowed money into low-rate mortgages.

Growth began to slow last year, however, as the European debt crisis grew and the shaky U.S. fiscal position worsened, threatening that country’s recovery as well as Canada’s.

Canada’s trade picture has also darkened, with exports and import slowing, reflecting a drop in domestic and global demand.

“Near-term adverse risks remain elevated, in particular from continued uncertainty on U.S. fiscal policy, further turbulence from Europe, and a decline in commodity prices driven by an economic slowdown in emerging markets,” the IMF said in its report.

“While supporting the highly accommodative monetary policy stance,” it said, “there is some space for further easing if the economy were to weaken further.”

The report said “in the event of a significant negative economic shock, there would be room for conventional monetary easing and that, if needed, other tools could be used, including forward guidance and liquidity support.”

On fiscal policy, the IMF said the federal government’s efforts to balance Ottawa’s budget by 2015 has “also held growth in check.”

“At the same time, weak external demand and the strong currency depressed exports. Together with lower commodity prices, this caused a sharp widening of the current account deficit.”

Now, even the red-hot housing market is showing initial signs of cooling — due in large part to tightening mortgage and lending rules pushed through by the Finance Department.

The IMF said the housing sector is “an important source of vulnerability,” citing the high household debt-to-income ratio. Should the ratio continue to rise, “additional measures may be needed.”

“Private consumption and residential investment are expected to contribute less to growth than in the recent past, as households deleverage and the housing sector continues to cool off,” the IMF said.

“But business investment and net exports will benefit from the expected strengthening of the U.S. economy.”

Finance Minister Jim Flaherty, responding to the report, said its conclusions “lend particular credence to our ongoing efforts to ensure a strong, competitive and efficient financial sector for Canadians, backstopped by sound federal finances and the return to balanced budgets before the end of this Parliament.”

The report also recognizes “Canadian authorities’ strong determination to move ahead with the international financial reform agenda, often taking a leadership role among other jurisdictions,” he said.